Is Opko Health Inc. a Buy?

Longtime Opko Health Inc. (NASDAQ: OPK) shareholders have a lot to be upset about. Using about $1.47 billion of its own stock to acquire a big lab service provider a couple years ago was supposed to give the company a springboard to enhance sales of its fancy new prostate cancer screen.

Unfortunately, total sales from Opko's new clinical lab operations have been declining too quickly for the diagnostic to push the entire needle forward. When the company reported a year-to-year total revenue slide in the third quarter instead of the slight gain the market was expecting, the stock fell hard as institutional investors threw in the towel.

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The stock has fallen so far, in fact, that it might be a bargain. After all, Opko has a handful of potential growth engines idling in the garage. Let's take a closer look to see if the stock is a bargain right now or a value trap.

The bad news

When Opko made its bid for Bioreference Labs (BRL) in mid-2015, the diagnostic service provider had been growing at a 20% annual rate for over 21 years and just reported a $30.9 million operating profit during the six-month period ended April 30, 2015. Demand for the sort of genetic testing BRL conducts is stronger than ever, but during the first year Opko held the reins, the lab service operations lost $3.4 million.

In the first nine months of 2017, lab service revenue fell 4.7% compared to the prior-year period and the segment's operating loss ballooned to $25.7 million. Remember, BioReference Labs was generating positive cash flows when Opko bought it, and the losses are accelerating. When it reported third-quarter results, lab service revenue fell 11.6% because the company has been forced to cut genetic testing prices in the face of fierce competition that has always been a hallmark of the medical diagnostics industry.

More bad news

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To date, Opko Health's execution of the BRL acquisition has been dismal, but management thinks that by fixing America's prostate cancer overdiagnosis problem, it can turn the sinking ship around. Around 6 million Americans receive positive prostate-specific antigen (PSA) test scores that suggest they have an aggressive malignancy each year, but roughly two-thirds of subsequent biopsies turn up negative at an enormous cost.

At a reimbursement rate of just $602.10 from Medicare, Opko's 4KScore test is an ideal stepping stone between positive PSA results and expensive biopsy procedures that unscrupulous urologists wish you never heard of. Unfortunately, relatively few patients have heard of Opko's 4Kscore test and the word doesn't seem to be spreading very fast.

More than three years since its U.S. launch, the number of 4KScore tests performed has stagnated at a tiny sliver of the total market. Opko performed about 17,760 4KScore tests in the third quarter. That was 11% higher than the prior-year period, but well below the 18,700 performed during the previous quarter and fewer than the 18,600 tests ordered during the first quarter of 2017.

Beyond diagnostics

Opko Health's diagnostics segment may appear doomed, but the company sports a pharmaceutical arm with two commercial-stage drugs and a human growth hormone (hGH) candidate partnered with Pfizer that's in late clinical-stage development. Although hGH-CTP missed the mark in a pivotal trial that would have made the drug available for the larger pediatric market, the company thinks the Food and Drug Administration could be convinced to review an eventual submission for the much smaller population of adults. If approved, annual sales of the growth hormone therapy are expected to peak at around $200 million.

Opko launched Rayaldee for adults with advanced-stage chronic kidney disease and secondary hyperparathyroidism last November, and it isn't going well. At the end of September, the company still hadn't recognized any revenue from sales of the drug.

In partnership with Tesaro (NASDAQ: TSRO), Opko launched anti-chemo-induced-nausea drug Varubi about two years ago with blockbuster hopes that are fading fast. Opko remains eligible to receive double-digit royalties on sales of Varubi, but the launch has been a major disappointment. Opko's partner reported Varubi sales reached just $2.4 million in the third quarter.

A bargain buy on the dip?

I'm not the first to notice the company has fallen on hard times lately. The stock has fallen about 41% this year of about 2.7 times trailing sales. That's a couple multiples lower than most commercial-stage biotechs but relatively high for companies that mostly record low-margin laboratory service revenue.

We can't use price-to-earnings ratios to measure Opko because it doesn't have any. In fact, it burned through $95 million during the first nine months of the year. Unless 4KScore, Varubi, and Rayaldee make dramatic turnarounds starting yesterday, the $100.4 million cash cushion on the balance sheet at the end of September won't last another year. The company is still working off substantial debts incurred during its acquisition spree, which means Opko will probably raise capital through another dilutive share offering that will reduce existing investors slice of any potential profits.

With 4KScore, Varubi, and Rayaldee in commercial stages, it sure looks like Opko has the tools it needs to turn itself around, and a handful of new drug candidates in mid-stage clinical trials could be worth a mint years down the road. Until we know this company can execute a product launch or a merger, the market needs to beat this stock down a lot further before I'd consider it a buy.

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